Disguised employment was back in the news last month after Match of the Day presenter Gary Lineker found himself in court with HM Revenue & Customs (HMRC) over a possible multi-million pound tax bill. While the court case continues, one thing is clear. HMRC are not messing around when it comes to ‘disguised employment’. UK business owners need to be up to speed on this practice, as facilitating it could catapult you into hot water. Are you scratching your head over the whole affair? Let’s explore exactly what ‘disguised employment’ is and how you can avoid facilitating it at your business. Disclaimer While due care has been taken in preparing this article, no responsibility is accepted by the author for the accuracy or suitability of the information contained. All liability is expressly disclaimed for any loss or damage which may arise from any person relying on, using or acting on any information contained therein. If you are unsure about how this information applies to your specific situation please seek expert advice or visit Gov.uk.
What is disguised employment?
Disguised employment is the act of engaging with a contractor who supplies their services to your business through an intermediary – like a limited company – despite working in the same ways that an official employee who is on a businesses payroll would. As these workers are registered as limited companies, they avoid paying the correct amount of tax in line with the legal requirements. For example, if someone works for a business on a full-time or ongoing basis, but is engaged as a self-employed contractor instead of an employee – this would make them a ‘disguised employee’. The businesses that engage with them this way (intentionally or unintentionally) are referred to as ‘disguised employers’. When workers act as ‘disguised employees’ they can avoid personal income taxes by acting as their own company. In this scenario employers can also avoid payments of employers’ National Insurance Contributions (NICs). They also do not have to provide employment benefits or entitlements like paid holidays, pensions or sick leave. Participating in disguised employment from a worker or a business’ side has serious legal implications, making it something you can’t afford to get wrong.
What is the IR35?
The IR35 is a tax legislation put in place to stop individuals from becoming disguised employees. The IR35 ensures that workers, who would have been an employee if they were providing their services directly to a business, pay broadly the same Income Tax and NICs as employees. Originally legislated in 1999, April 6 2021 saw a tightening of this law. Previously all responsibility fell on the self-employed contractor to determine their correct tax status. Now, medium and large private companies will also be responsible. HMRC describes these changes; “All public sector authorities and medium and large-sized private sector clients will be responsible for deciding if the rules apply. If a worker provides services to a small client in the private sector, the worker’s intermediary will remain responsible for deciding the worker’s employment status and if the rules apply.” If HMRC audits companies and they are found to be engaging with incorrect tax statuses (the worker falls ‘inside IR35’), the business will be liable for any fees and penalties. This renewed the importance of IR35, making it a dual responsibility of worker and business to pay tax correctly.
How does HMRC investigate IR35?
HMRC can investigate a contractor’s tax status at any time. This process is essentially to identify whether or not the contractor is working on a set basis for the business as an employee would. According to Business Information UK, HMRC use three factors to determine this:
- Control: Does the contractor manage their own hours, work location and process of working, or does the business control these things? Contractors that aren’t disguised employees will determine these working elements for themselves. If the business has control over these instead, the contractor is likely inside IR35.
- Substitution: Say that the contractor can’t commit to offered work, they have the right to use a replacement or substitute to complete the work for their client. If the client wants only the contractor to work on their project, they are likely to be inside IR35.
- Mutuality of Obligation (MOO): Is the business obligated to provide work to the contractor? Is the contractor expected to complete the offered work? If so, the engagement likely falls inside IR35.
HMRC will also take into account the contract type, the contractor’s role in the business, whether the contractor has the burden of any financial risks and whether the company provides any working equipment to the contractor to complete their work. There may be additional complexities to this process, so it’s important to consult professional advice for your businesses specific circumstances.
What are the penalties for facilitating disguised employment?
If, following HMRC’s auditing process, a business is found to have facilitated disguised employment, there will be penalties. If the business is deemed to have unconsciously entered into a disguised employment arrangement, they will have to pay back the NICs and tax contributions that would have been payable on the salary in question. If HMRC finds that the business consciously entered into the arrangement, the business is considered to have defrauded the tax office and they may be prosecuted. As you can see, it is a good idea to make sure any contracts are water tight. You need to seek professional advice to ensure you are covered if there is ever any dispute regarding hidden or disguised employment.
How can businesses protect themselves from disguised employment?
According to research appearing in Forbes in 2020, 65% of business owners were aware of the incoming changes to the IR35 and knew how to proceed. 41% said that they would look to review their contractor strategy and 11% said they may decrease their numbers of contractors. This decision to decrease the number of contractors in favour of employment can be a positive one for businesses. As well as being protected from disguised employment, there are many benefits of growing your team of employees instead of relying on contract workers. Your employees will be more committed to your business, you can see a return on investment in business growth and you can create a better company culture of constant workers. While for some projects and working types, engaging with contractors or freelancers may be the clear choice. However, it’s worth doing the background research to protect your business. HMRC has two resources that support businesses – the Employment Status Manual (which explains MOO and related elements) and this tool to help you determine tax status. Due to the complexity of this legislation, it’s still advised to source professional advice for your situation.
So you want to move away from contractors and towards employment?
Great choice! Many growing businesses can rely on contractors to avoid the complexities of employment, which can lead them to miss out on the benefits of having a passionate and loyal team around them. If you’re worried about the extensive effort of employee management, an HRIS (Human Resources Information System) like Employment Hero can lighten your load. Employment Hero can take care of compliance, payroll, HR and employee management – so you can get back to managing your business. We make employment easier and more rewarding for everyone. Book a demo with one of our business specialists to see how we can help your business.